What Is A Market Maker?
A market maker is an individual or organization that participates in the financial market transaction by taking any of the market’s two-sided positions, usually buying and selling parts in a particular security or asset transaction.
They ensure that the market is liquid and with great depth. They make their profit through the spread. Spread is the difference between the asking and bidding price. Market makers may also trade from their account, which is called a principal account.
Market makers are mostly brokerage homes providing services on trading for different investors; these services are provided to ensure liquidity in the financial markets. When the market maker is an individual, they are called local. But a majority of the market makers are big corporations. This is because a large volume of capital is required to take any position that will provide enough liquidity for the market.
The commodity market operates with buying and selling quotes. For every transaction or order in the market, there is an asking and bidding price. Market makers would usually display this price and update it regularly to take any market position. Once the trader decides to buy a place, the market maker would take the sell position and vice versa. So they provide or complete the setup so market order can proceed accordingly. This makes it easy for traders to buy or sell any market asset at any point in time.
Market making involves risk as they would sometimes have to hold a depreciating commodity at any particular time before it could be bought and vice versa.
They make their money through spread. This is the difference between the bidding price and the asking price. The bidding price is the selling price, while the Asking price is the buying price.
Market Maker Example
So let’s say that for a market commodity, the asking price is 50.5, and the bidding price is 50. The spread will be the difference between the two commodities which should give us 0.5. 0.5 looks like an insignificant amount but when you consider the volume transaction involved are large volumes, equals a considerable profit.
The market maker assumes whatever position is available and ensures transactions occur between buyers and sellers.« Back to Glossary Index